The risky-loan trade is back

livemint.com:

A corner of Wall Street long shunned by investors is suddenly in demand. Higher rates over the past two years were expected to slam risky corporate borrowers that rely heavily on floating-rate debt. That hasn’t happened.

Instead, low-rated corporate loans have steadily outperformed investment-grade bonds and are drawing inflows for the first time since 2021. So far this year, everyday investors have poured $12.2 billion into mutual and exchange-traded funds focused on such loans. That is after a combined $27 billion in outflows for 2022 and 2023, according to LSEG data.

The attraction for investors: Yields of about 9%, and defaults that have remained low as the U.S. economy cools with little sign of an impending recession. “With the Goldilocks economy narrative coming to the forefront, investors are feeling a little bit more safe in the loan market," said John Lloyd, a portfolio manager at Janus Henderson Investors.

That is despite the risky reputation of low-rated corporate loans, which are also known as leveraged loans for their role in funding private-equity firms’ buyouts of companies. Since the start of this year, the Morningstar LSTA U.S. Leveraged Loan Index, which includes loans to companies including Uber Technologies and American Airlines, has delivered a return of 4.6%, including price changes and interest payments.

Meanwhile, investment-grade bonds have edged up 0.4%, while junk-rated bonds gained 3.1%. Over time, analysts say higher interest rates could hurt the profitability of risky corporate borrowers, leading to falling loan prices and rising default rates. For now, investors’ confidence in leveraged loans is reflected in the shrinking premium they are demanding above the benchmark overnight rate.